Two young boys walked into a pharmacy one day, picked out a box of tampons andhurried to the checkout counter.

The man at the counter asked the older boy, "Son, how old are you?"

"Eight," the boy replied.

The man continued, "Do you know what these are used for?"

The boy replied, "not exactly, but they aren't for me. They're for him. He's my brother. He's four. We saw on TV that if you use these you can swim and ride a bike. Right now, he can't do either."

Reminds me of the 1940s era joke: GI gets his hands burned in an explosion in battle in Italy. He wakes up, and sees the doctor examining him. "Doc! DOC! Will I be able to play the piano? TELL ME that I will be able to play the piano!"

The doctor looks carefully. The burns aren't that bad, and there is no bone damage. "You will be able to play the piano beautifully, son."

Friday, April 30, 2010

The problem with Greece and the Euro isn't that the fixed exchange rate is foiling Greece from devaluing its way back to prosperity, but rather that adopting the Euro (and the ECB rules) let Greece finance an incredible spending binge at artificially low rates.

If Greece had never joined the Eurozone, it NEVER would have been able to run up so much foreign debt.

While I do partly agree with the first phrase to the extent that I don't favor balancing the budget at current spending levels, the hideous combination of arrogance, profligacy and ignorance shown here typifies, to me, how our congress operates (and has operated for quite a while now).

I have taken my own shot at this, along with Dave Schmidtz and others. (For the dissertation part, check page 21 and following)

Funny to think of Nick writing about writing dissertations. Seems like just yesterday when he was a newbie in grad school, and wrote this on his blog.... Four weeks later, Nick said I had "outed him." Blogging was a bit more outre and underground in 2004.

Yesterday was the day it seemed that everyone figured out the Greek crisis is not one of liquidity but rather of insolvency.

The situation in Southern Europe now seems more and more like the Latin American debt crisis, and to me, the central lesson of that crisis for the debtor countries was, if you are going to default, sooner is much better than later.

One of the main reasons the LA crisis morphed into the dreaded "lost decade" for the debtor countries was that they kept agreeing to refinance and re-borrow and thus dragged out the crises for years.

Today, capital markets are much larger and more open than they were in the early 80s so I don't think this crisis can be dragged out for years even if the countries involved were dumb enough to want to try.

Somehow though, I don't think that the capital markets are going to get thanked for providing this valuable service!

Tuesday, April 27, 2010

I just love this last passage from Mencken's 1926 "Last Words."I have spoken hitherto of the possibility that democracy may be a self-limiting disease, like measles. It is, perhaps, something more: it is self-devouring. One cannot observe it objectively without being impressed by its curious distrust of itself—its apparently ineradicable tendency to abandon its whole philosophy at the first sign of strain. I need not point to what happens invariably in democratic states when the national safety is menaced. All the great tribunes of democracy, on such occasions, convert themselves, by a process as simple as taking a deep breath, into despots of an almost fabulous ferocity. Lincoln, Roosevelt and Wilson come instantly to mind: Jackson and Cleveland are in the background, waiting to be recalled. Nor is this process confined to times of alarm and terror: it is going on day in and day out. Democracy always seems bent upon killing the thing it theoretically loves. I have rehearsed some of its operations against liberty, the very cornerstone of its political metaphysic. It not only wars upon the thing itself; it even wars upon mere academic advocacy of it. I offer the spectacle of Americans jailed for reading the Bill of Rights as perhaps the most gaudily humorous ever witnessed in the modern world. Try to imagine monarchy jailing subjects for maintaining the divine right of Kings! Or Christianity damning a believer for arguing that Jesus Christ was the Son of God! This last, perhaps, has been done: anything is possible in that direction. But under democracy the remotest and most fantastic possibility is a common-place of every day. All the axioms resolve themselves into thundering paradoxes, many amounting to downright contradictions in terms. The mob is competent to rule the rest of us—but it must be rigorously policed itself. There is a government, not of men, but of laws - but men are set upon benches to decide finally what the law is and may be. The highest function of the citizen is to serve the state - but the first assumption that meets him, when he essays to discharge it, is an assumption of his disingenuousness and dishonour. Is that assumption commonly sound? Then the farce only grows the more glorious.

I confess, for my part, that it greatly delights me. I enjoy democracy immensely. It is incomparably idiotic, and hence incomparably amusing. Does it exalt dunderheads, cowards, trimmers, frauds, cads? Then the pain of seeing them go up is balanced and obliterated by the joy of seeing them come down. Is it inordinately wasteful, extravagant, dishonest? Then so is every other form of government: all alike are enemies to laborious and virtuous men. Is rascality at the very heart of it? Well, we have borne that rascality since 1776, and continue to survive. In the long run, it may turn out that rascality is necessary to human government, and even to civilization itself - that civilization, at bottom, is nothing but a colossal swindle. I do not know: I report only that when the suckers are running well the spectacle is infinitely exhilarating. But I am, it may be, a somewhat malicious man: my sympathies, when it comes to suckers, tend to be coy. What I can't make out is how any man can believe in democracy who feels for and with them, and is pained when they are debauched and made a show of. How can any man be a democrat who is sincerely a democrat?

It is rather amazing that progressives are convinced that man is deluded, badly informed, ill-motivated, and terminally selfish.... unless that man steps in a voting booth or public office. Then, the saints sing from on high and only good things can happen.

Xavier Gabaix and Robert Barro are, in my opinion, on to something really intriguing and good with their work on the effects of rare disasters.

Now, in a new NBER working paper (ungated copy here) titled "Crises and Recoveries in an Empirical Model of Consumption Disasters", Emi Nakamura, Jon Steinsson, Robert Barro and Jose Ursua introduce a new twist, viz. Epstein-Zinn-Weil preferences.

Why?

Well because of this:

In a model with power utility and standard values for risk aversion, stocks surge at the onset of a disaster due to agents' strong desire to save. This counterfactual prediction causes a low equity premium, especially in normal times. In contrast, a model with Epstein-Zin-Weil preferences and an intertemporal elasticity of substitution equal to 2 yields a sizeable equity premium in normal times for modest values of risk aversion.

Got this asinine cartoon from my man KL....How confused can you possibly be?

1. Libertarians believe that individual CHOICES, not disjointed individual ACTIONS, are the center of the good society. I have a 2006 BMW 330i. Not a clue how it works, the engine is a complex mystery to me. So, do I do all the work myself? I do not, none of it in fact. I pay an expert to do the service work for me. My choice to purchase a BMW was based in part on the excellent service record of the 330 series. I had a lot of choices, and I chose the BMW. Maybe a good choice, maybe not. But I do NOT believe in the need for, or even the desirability of, total independence and self-sufficiency. Markets always create complex mutual interdependencies that greatly increase specialization and improve welfare.

2. If the government stopped providing coercively "supplied" fire services, what would happen? Would there be zero fire protection? No, volunteer fire departments would take up part of the slack. In fact, volunteer fire departments are a perfect example of voluntary private organizations that would carry most of the water in a libertarian society. We don't necessarily need for-profit firms to do the work, though in larger cities that would probably make sense. This fallacy, that if the government stopped providing the service there would be no new institution to solve the problem, is obvious nonsense. Yet it is essentially the only argument that the anti-libertarian ning-nongs and lefty figjams have in their pathetic little arsenals. It doesn't matter how many times the canard is refuted, you still hear it.

Euvoluntary exchange requires (1) conventional ownership of items, services, or currency by both parties, (2) conventional capacity to transfer and assign this ownership to the other party, (3) the absence of regret, for both parties, after the exchange, in the sense that both receive value at least as great as was anticipated at the time of the agreement to exchange, (4) neither party is coerced, in the sense of being forced to exchange by threat, and (5) neither party is coerced in the alternative sense of being harmed by failing to exchange.

In the political world, “power” is measured by the capacity of one person or a group to impose his, or its, will on others through the threat of violence. That is the sense of “coercion” in number 4 above. In the economic world, power in an exchange relationship is measured by the disparity in outcomes if no exchange is agreed upon.

More simply, economic power is the disparity in welfare at the reversion points, or the best alternative to a negotiated agreement. Let’s call this the “BATNA” for short.

Suppose I am considering buying a bottle of water. If I am in a grocery store, and notice that the price is $1,000 per bottle, I laugh and push my cart along. I’ll buy the water somewhere else, or get some from the tap, or choose any of many alternatives. I am almost indifferent, in fact, between buying water at Kroger or buying it at Food Lion, for the market price of $0.90. I have choices.

And, I have money, and we all agree that I own that money and can transfer, and we all agree that each store owns the water, and can transfer it. Finally, the water is not poisonous, and tastes good, so I won’t regret purchasing it, if I choose to do so. So the exchange is euvoluntary.

Now, let’s suppose instead that I am far out in the desert, and am dying of thirst. I happen to have quite a bit of cash on me, but I can’t drink that. A four wheel drive taco truck rolls over the hill, and pulls up to me. I see that the sign advertises a special: “3 tacos for $5! Drinks: $1,000. 3 drinks for only $2,500”. I argue with the driver. “Have a heart, buddy! I am dying of thirst!” He asks if I have enough money to pay his price, and I admit that I do. The driver shrugs, and says, “Up to you! Have a nice day!” and starts to drive off.

I stop him, and buy 3 bottles of water for the “special” price of $2,500. Was the exchange euvoluntary?

It was not. The exchange violates part 5 of the definition, relative equality of BATNAs. My BATNA was death, from thirst. The driver was little affected by whether a deal was consummated (though he got a bit richer), while I was enormously affected. Even though in most important senses the exchange was voluntary (I could have said no), it was not euvoluntary.

(The paper is tentatively forthcoming in Social Philosophy and Policy, September 2011)

The Greek bailout is proceeding apace. Their budget deficit was again revised upward and their bond rating accordingly again revised downward, so their debt refinancings are getting ever closer and more expensive. The EU and the IMF are committing around 40 billion Euros in funds.

But, is this a good idea?

Not many people believe the package is big enough to avoid a future restructuring of Greek debt, and now the Fund and the EU will be at the front of the line of creditors.

The Greek economy with its inflexible labor market, low productivity, low R&D spending, corruption, and bloated government sector desperately needs reform. While the Germans are insisting on "tough conditions", giving the money obviously reduces the pressure on the Greek polity to reform. It also reduces the pressure on the Portuguese and Spanish polities to reform as once the bailout lamp has been lit, it is not credible to say "we won't do it again". People, you know I'm talking 'bout moral hazard!

Further, things are so badly out of whack that it is not clear any set of reforms, no matter how tough, can fix the problem. To me, the choice between defaulting now or taking on a bunch of additional debt only to default later is a no brainer: just do it!

Paul Blustein's excellent book on the Argentine crisis shows how delaying the inevitable can just make things worse, and Greece is in much worse shape than Argentina was.

The argument in favor of giving the bailout and having Greece muddle on, to me, is that European banks have a large exposure to Greek debt and are still fragile from the recent crisis. A Greek default might re-start a general European banking crisis, putting the relatively solvent governments back on the hook anyway. The bailout thus buys time for banks to adjust their balance sheets in an orderly fashion.

In a way, the early attempts to deal with the Latin American debt crisis in the 80s worked this way, but the cost to the debtor nations of stringing out the process was considerable.

People, the only thing that can save Greece is an extremely large hot tub time machine. Lacking that, they should choose the least bad of a set of very bad alternatives, which is, in my opinion default and restructure now.

Sunday, April 25, 2010

All resources are either substitutable, or renewable, except.... ONE. Our time. That's the one thing we can't get more of. Yet the envirophiles want to waste all our time on religious ceremonies to worship Gaia.

"I was managing the game exactly how I wanted to," Bryant said. "Unfortunately, it got away from us by them getting out in transition and getting those buckets, I wasn't able to do what I normally am able to do at the end of the game, closing things out and things like that. But I felt pretty good about the way I was managing it."

I am not sure there is one single sentence in this editorial that makes sense. Certainly not its imputing of actions and beliefs to "libertarians" or its ritualistic but content free invoking of "economic theory" or its claim of a stylized fact without any supporting evidence beyond one ridiculous example, or its bizarre equation of private pay practices with coercive government actions.

Here, I'll just concentrate on the bad economics.

Frank's example of where pay doesn't follow productivity is carpenters in a framing crew. He says:

The most productive carpenter in a framing crew, for example, might produce twice as much as his least productive colleague, but is rarely paid even 30 percent more.

This is pretty nuts in a number of dimensions.

First, where do these numbers come from? The weasel words "might" and "rarely" are there to cover his ass, but this is just made up out of whole cloth.

Second, a framing crew produces a framed house. It is team production. Marginal products are notoriously difficult to measure in this context and there is a lot of "economic theory" about this issue. It would be almost impossible to verify that one framer produced "twice as much" as another inside of a single crew.

Third, just widen the issue from carpenters on a framing crew to carpenters in general and his point totally fails. The least skilled work on framing crews. Higher skilled are the finish carpenters who do make a lot more money (easily more than twice as much). The highest skilled are artisans turning out custom furniture pieces and they in turn make a lot more money than do finish carpenters (again, easily more than twice as much).

I am not going to put quantitative numbers on these classes (with weasel words to give me an escape valve), but I am confident that, over the trade of carpentry in general, variations in earnings are extremely tied to variations in skill and these variations are quite large.

Frank then claims that the two highest paid workers in an enterprise rarely earn more than the three lowest paid.

Man, I guess CEO pay is really not an issue in this country after all.

Also in Frank's own industry, higher education, this is certainly not the case.

In econ departments and b-schools at least, the two highest paid full professors easily earn more than the three lowest paid assistants.

And of course, if you take the unit of observation to be the university, the gap between highest and lowest "employee" is very very large. OU's president makes over $250K and some staff make less than $25K.

There are a number of fields where pay is close to linearly related to productivity. Piecework jobs in factories and sales jobs on commission are two obvious examples.

Finally, there is a whole literature about the exact opposite case than the one Frank claims to be telling, where there is increasing returns to talent.

Writing, acting, making music, professional sports, and several other fields of endeavor all exhibit this trait.